Tuesday, August 26, 2008

Row, Row, Row Our Boat --- In The Same Direction!

Partnerships can be juicy shortcuts to creating massive increases in wealth.

Donald trump is the master of profitable partnerships. Everything he builds and produces is a result of sophisticated, mostly profitable partnerships.

Meanwhile, after talking with many, many investor wanna-bees, the average of them are suspicious of partnerships. It seems like they all have uncles that got screwed somehow or other. I, too, have a bad partnership story from, whom else, an uncle. Who knew.

However, bad partnerships are a result of bad partnership agreements, or partners with bad characters, or a combination of both. Primarily partnership are ideally a team of individuals "rowing together" toward a common objective. Some call these partnerships "teams". But "team" is overused, mis-applied and otherwise a bit pedestrian for our purposes today. That said, this post is a primer on how to qualify partners, and partnership agreements so that we can increase the likelihood of a good, profitable partnership --- rather than listen to our “loser” uncles!

That aside, again partnerships can be extremely profitable when large amounts of cash are needed to take advantage of “value-added” projects. Value added projects are anything with a HUGE upside, or potential that the investor isn’t necessarily paying for up front.

At the same time, it can be very difficult to attract partners for value-added projects unless the managing partner has a good track record, or the partners have experience and can visualize the potential, or the managing partner has the ability to paint a vivid picture of what’s possible, probable, and profitable to the partners.

On the other hand, it’s seems easier to attract partners for otherwise low-return, pride of ownership investments, or high profile buildings. It's about safety and bragging rights it would seem with this niche. On that last account, I don't have extensive experience, because I don’t buy anything pretty with partners.

Meantime, I've formed several partnerships that were critical to my forward momentum financially. All were value-added investments requiring extensive personal involvement and cash. I’ve also endured a couple of real dog partnerships, so I know both sides of this coin).

Nevertheless, just like marriages, partnerships have similar qualities and maintenance requirements. First, you have to have "partnership vows" that each member of the partnership must agree and adhere to. All the partners need to have the same goal, and agreement on when to get out. If this is not established, things fall apart, and spectacularly.

Here's a few points to consider that can help assemble a “good” partnership that is more likely to function profitably, effectively and smoothly. (in no particular order)

  • Each member of the partnership needs to contribute something that the remaining partners don't have. Uncle Joe doesn't get to be a partner because he's got a funny laugh, and has a supportive "spirit". Nuh, uh.
  • Again, nobody gets to be a partner who isn't supplying a critical piece of the partnership puzzle; money, contacts, or expertise.
  • There has to be a managing partner with 100% control of the asset/partnership. Zero exceptions. That doesn't mean the remaining partners can't chime in, but they have no vote, or veto power.
  • It's ok to turn down money partners that can't agree to a managing partner. They would be partners from Hell anyway.
  • There's lot of folks who just want a return, and if they trust you, and you aren't emptying their retirement portfolio, they're happy. It's the members who are investing all/most of their cash that are insecure, itchy and scratchy, and insist on input, votes, and veto power of the partnership decisions. Again, reject these low-quality investors. They'll make your life miserable, and ultimately can cost you the partnership profits.
  • There has to be a buy-out clause available to any of the partners, but especially the managing partner, based on some pre-arranged parameter.
  • Talk to those who've assembled and dissolved successful partnerships and get their advice before you write up a partnership offer and make any presentations.
  • All the terms and expectations of the partnership are put in writing; everything.
  • Only those who can afford to lose the money can join the partnership.
  • Only those that fulfill their obligations as stated in the partnership agreement can stay IN the partnership. That means that "Buzz" the manager expert, better actually be a management expert, and actually manage, or he's out without compensation. This goes for every contributor to the partnership who's not contributing what they promised.
  • There must be a dissolution instruction to follow if the investment goes bad. That is, the remaining assets are split according a pre-planned distribution schedule if the project does not perform. This may or may not mean that everyone gets all their money back in full. This has to be negotiated up front without making promises that can't be kept.
  • Make it clear in writing that you are presenting a "horribly risky venture, where all the partners are likely to lose every last dime" --- which also supports why the upside is so ridiculously juicy [If this is a high risk venture, that is].
  • Keep the agreements as simply worded, and clear, consistent as possible.
  • Let the potential partners either offer a, "Yes, or a "No" to the partnership offer.
  • Remember it's hardest getting the last 10% of the partnership assembled. Unfortunately, the last to join, are the mostly likely to want to negotiate.
  • Partnership agreements aren't open for negotiation as far a you're concerned. If so, then plan to start giving away everything to make it work for "everyone".
  • Have a minimum investment amount to keep out the amateur, insecure, call-you-every-other-day types from investing. Unless you're desperate and are happy with high maintenance folks.
  • Try to form partnerships with fewer than four partners. This would be a goal, not a requirement.
  • Partners get a monthly profit and loss statement. Period. Always. No exceptions.
  • Books are audited for everyone's benefit each year. Period. Always. No exception. This alone will remove a lot of grief and management headaches and lawsuits.
  • Always pay yourself based on benchmarks, and performance, and don't be shy about being paid generously. If you can't pay yourself generously, then you're not going after good enough investments.
  • Bad partnerships are bad regardless if the project makes money or net, it seems to me.
  • Exit strategies are a must, and can include partial splits of the partnerships, or include options for each partner to buy out the others, or make buy out offers, and maintain the partnership --- with the managing partner's written approval.
  • There should be a clause prohibiting any partner from selling their interest without the written approval of the managing partners. The last thing you want is a loose cannon, ex-husband, mixed up in your deal because of a divorce settlement, and suing to liquidate the partnership so he can get his hands on the ex-spouse's contribution, plus profits. Trust me on this.
  • Be friendly. Be honest. Be consistent. Be reliable. Be firm. Be fair. Be bitchy when necessary.
  • Leave out any of the above recommendations (plus ones I can't recall off the top of my head), and you should NOT go into a partnership.
  • Partnerships are reserved for people with character. Otherwise, if things go good, the bad characters will take advantage. If things go bad, same thing.
  • If anyone suggests that they are religious, in order to secure a partnership position ---- run!

Think about finding character-driven partners with more than enough cash to do your WHOLE deal. That's the best scenario.

I believe that that most partnerships go bad because of failed expectations --- in either the management, or the quality of the partners, and of course the outcome of the deal. The latter is why I think it's real good to temper everyone's expectations at the outset, so that anything remotely good just looks like frosting on the cake. Meanwhile, again it's better to involve the fewest people with the most money, rather than including lots of wanna-bee investors with little bits of cash.

Don't be afraid of partnerships



MattJohnson said...

Wow. What an incredible post. I have to admit, before today I was in the category of "afraid of partnerships" due to past experiences (involving family, no less). Not any more; what an insightful, thorough, and well thought-out approach. You covered the bases extremely well.

Jay, I can tell you learned a lot of these lessons the hard way, LOL.

Jay said...

Thanks, Matt!

Yes, I've learned (and still learn) the hard way. I learn faster that way, too! :)

Doing partnerships and/or business with family seems to be the most risky because families typically and naively believe they're above nasty disagreements. HA!!

Too many families fail to get things in writing (if just to keep from forgetting), and reduce a hand-shake agreement to a hard copy agreement.

I say, "Handshakes are for 'Hello'" and nothing more.

I'm glad I've helped you lose fear of partnerships.

Thanks again for the compliment.

Here's to your success!